ECC1000 Lecture Notes - Lecture 7: Traffic Congestion, Marginal Utility, Passive Smoking

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23 May 2018

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●Taxi industry and ride sharing = different industries = there are substitutes for price

increases/decreases; if you include them as the same industry = less substitutes =

decrease price elasticity aka create a more inelastic industry

●Subsidy (opposite of a tax; buyer or seller gets paid by government for every

purchase) for solar panels - seller receives more than the buyer pays; producers

benefit the most as they get more additional surplus

●Foreign furniture manufacturer plans to join the market, before the entry it is known

that the price of furniture will fall after the entry.

○Shift of demand to left

●Suppose the government sets a price of $5 ($1 below the equilibrium) for the good,

we see this is an example of...

○Price ceiling, shortage of 20 units

●

Week 6 To do: Study for Mid-Sem Test during lecture (up to week 5 material),

Complete Aplia test by Sunday 23:30

Topic IV: Market Failure

Week 7 To do: Read Chap 10 and 11, Complete Aplia test by Sunday 23:30

Competitive Allocation and Efficient Allocation (Review)

●Competitive market allocation where demand = supply

○Demand = private marginal benefit (PMB): MB to the buyer

○Supply = private marginal cost (PMC): MC to the sellers

●Efficient allocation (max social welfare) where the social marginal benefit = social

marginal cost

○social marginal benefit: MB to the society as a whole NOT just the buyers

○social marginal cost: MC to society as a whole NOT just the sellers

Market Failure

●If the benefits ONLY go to the buyers then PMB = SMB

●And if costs only go to the sellers then PMC = SMC

●In this case, the competitive market allocation = efficient allocation: maximizes social

welfare

●Market failure = Instances in which markets do not allocate resources efficiently and

thus fail to maximise the size of the economic pie.

○Either SMB not = PMB

○OR SMC not = PMC

●Consumers only consider themselves NOT third parties (society, environment etc)

Types of market failure

1. Externalities: External to the transaction (not buyer/seller

○eg: include traffic congestion, pollution, renovation/making of new building

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○Explanation of smokers = pollution to environment and second-hand smoke

inhalation = negative

2. Public goods: a commodity or service that is provided without profit to all members

of a society, either by the government or by a private individual or organization.

○Eg: include street lights, national defence, public facilities

○Non-rivalrous, non-excludious

3. Common resources (characterised by ill-defined property rights, as opposed to

public goods): examples include overfishing, global warming, forests (illegal

poaching)

○Rivalrous = if I did it no one else can

○Non-excludious = open to everyone

4. Monopoly: (this is covered later in the course)

5. Imperfect information: (not in course design)

○Eg: Financial crises -> People bought what they believed to be safe liquid

assets but they were not

6. Club Good

○Nonrivalrous and excludious good

○Eg: Country club

Externalities

●Externalities are costs or benefits of an activity that falls on a third party that is not

involved in the activity.

○Eg: in a market transaction it is a cost to someone other than the sellers or a

benefit to someone other than the buyers.

●Externalities may be positive (increase benefit or decrease cost) or negative (decrease

benefit or increase cost)

●Externalities may be on production (supply) or on consumption (demand)

Positive production externality

●Beekeeper helping pollination in nearby orchards

○Only wants own PMB = PMC to decide on number of beehives

○BUT pollination by bees decreased MC of apples

○SMC = PMC - benefit to third party. So, PMC > SMC

○No externality on consumption side so PMB = SMB

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○Efficient allocation where:SMB = SMC

■BUT PMB = PMC, where PMB = SMB and PMC>SMC, therefore

SMB > SMC ie not an efficient allocation

○Basically beekeeper is already maximising profits BUT is producing below the

socially optimal number of beehives ie goods things are not produced enough!

○

●Education

●Government subsidies the exchange as it benefits society

Negative production externality

●Pollution

○Bob sold the orchard (not enough beehives) and purchased a factory that

produces paint, which also produces toxic waste as a by-product

○Without proper filtering, the toxic waste dumped in the river can cause

damage to the downstream fishery owned by Jay

○Bob will choose the production level that equates his private marginal cost and

marginal benefit: PMB = PMC

○However, SMC = Bob’s private marginal cost + the external cost to Jay

○So SMC > Bob’s PMC

○No externality on consumption side (Demand), so PMB = SMB

○Efficient allocation: SMB = SMC

■Bob has PMC = PMB

■BUT PMB = SMB and PMC < SMC so SMB < SMC ie inefficient

allocation

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Document Summary

Taxi industry and ride sharing = different industries = there are substitutes for price increases/decreases; if you include them as the same industry = less substitutes = decrease price elasticity aka create a more inelastic industry. Subsidy (opposite of a tax; buyer or seller gets paid by government for every purchase) for solar panels - seller receives more than the buyer pays; producers benefit the most as they get more additional surplus. Foreign furniture manufacturer plans to join the market, before the entry it is known that the price of furniture will fall after the entry. Suppose the government sets a price of ( below the equilibrium) for the good, we see this is an example of Week (cid:549) to do: )tudy (cid:262)or mid-)e(cid:299) test duri(cid:300)(cid:263) lecture (cid:625)up to (cid:367)eek (cid:548) (cid:299)aterial(cid:626), Week (cid:550) to do: read chap (cid:544)(cid:543) a(cid:300)d (cid:544)(cid:544), co(cid:299)plete aplia test by )u(cid:300)day (cid:545)(cid:546):(cid:546)(cid:543) Competitive market allocation where demand = supply.

Related Questions

Question 1 If it was impossible to have a comparative advantage, there would be no gains from trade. True False 4 points

Question 2 If the price of Good X is $10 and price of Good Y is $15, the slope of the budget constraint is 1.5. True False 4 points

Question 3 If the demand and supply curves have equal slopes in absolute value, the burden of a commodity tax will be split equally regardless of on whom the tax is placed. True False 4 points

Question 4 Suppose that supply is fixed at 100 units and demand is Q = 500 P. A price ceiling of $100 creates a shortage of 400 units. True False 4 points

Question 5 Housing shortages caused by rent controls are larger in the long run because the supply of housing is more elastic in the long run. True False 4 points

Question 6 Firms should exit the industry if average costs are greater than marginal costs. True False 4 points

Question 7 If a 3.67 percent increase in price causes a 1.97 percent decrease in quantity demanded, then total revenue must fall following an increase in price. True False 4 points

Question 8 Which of the following choices best illustrates the concept of Adam Smith's invisible hand ? A Vietnamese farmer grows rice; an exporter ships it to the United States, and a grocer in New York sells it to a customer. A fishery's stock of fish becomes depleted due to overfishing as boats from around the world converge. A government regulates a firm to clean up the pollutants it has released as part of its production process. An apartment building is built, which provides much needed housing, on the site of the only playground for children in that town. 4 points

Question 9 Figure: Labor Supply and Welfare Refer to the figure. The budget constraint is: ABC. BD. ABDC. ABD. 4 points Question 10 The price of coffee has increased, yet evidence suggests the demand for coffee has been stable. A possible explanation is that: there has been no change in the supply of coffee. there has been increased use of subsidies in coffee production. wages of workers in coffee production might have decreased. wages of workers in coffee production might have increased. 4 points Question 11 Which of the following statements is TRUE regarding profit maximization in competitive markets? I. When all firms pursue profits, none of them achieve profits. II. When all firms pursue profits, only the most innovative will achieve profits. III. Production is divided in such a way that total costs of production are minimized. I only II only I and III only II and III only 4 points Question 12 Suppose France can produce four phones or three computers with one unit of labor, and Sweden can produce one phone or two computers with one unit of labor. If France can trade only with Sweden, then the theory of comparative advantage suggests that: France should specialize in producing phones and import computers from Sweden. France should specialize in producing computers and import phones from Sweden. France should produce both phones and computers, and import nothing from Sweden. France should import both phones and computers from Sweden. 4 points Question 13 Potato chips and popcorn are substitutes. A subsidy for potato chips will ______the demand for popcorn and the quantity of popcorn sold will ______. (Table: Barrels of Oil) Refer to the table. What is the total amount of producer surplus (per barrel of oil) earned by all four producers if the market price per barrel of oil is $51? Table: Barrels of Oil Minimum willingness to sell Country a single barrel of oil Country A $32.00 Country B 16.00 Country C 17.25 Country D 56.99 increase; increase increase; decrease decrease; decrease decrease; increase 4 points Question 14 In the market for Good X a necessity good without any good substitutes the workers and capital in the industry can easily find work producing other goods. The burden of the tax is likely to fall: more heavily on buyers, given that demand is more inelastic than supply. evenly between buyers and sellers. more heavily on sellers, given that supply is more inelastic than demand. more heavily on buyers, given that demand is more elastic than supply. 4 points Question 15 A U.S. manufacturer arranges to purchase parts from a German supplier for 500,000 euros in six months. The U.S. manufacturer is concerned that the dollar will depreciate against the euro, meaning the dollar cost of the 500,000 euros will rise. What should the U.S. manufacturer do? lobby the Fed to lower interest rates on six-month T-bills buy a futures contract that fixes the dollar cost of 500,000 euros in six months buy an exchange rate contract that pegs the interest rate to the discount rate on interbank loans sell a naked option to cover the output spread 4 points Question 16 Which of the following scenarios would cause a speculator to buy low and sell high ? Farmers expect to have a bumper harvest of corn next year. Imports of corn begin to flood the country. The government is expected to pass legislation making it mandatory for all vehicles to use corn-based fuels within one year. The government is expected to subsidize corn production for farmers. 4 points Question 17 In a market with a price ceiling which of the following is TRUE? Buyers and sellers experience unexploited gains from trade. Resources are allocated to their most efficient uses. The supply of goods is sold by the sellers with the lowest costs. The supply of goods is bought by the buyers with the highest willingness to pay. 4 points Question 18 Consider the following statements: I. Relative to a no-trade situation, if the United States exported wheat, the U.S. domestic wheat price would rise and domestic production of wheat would expand. II. Relative to a no-trade situation, international trade causes prices of all goods to rise. I is true; II is false. I is false; II is true. Both I and II are true. Both I and II are false. 4 points Question 19 As the price of a good fluctuates, a profit-maximizing firm will expand or contract production along its: average cost curve. average product curve. marginal cost curve. marginal product curve. 4 points Question 20 An increase in demand and a decrease in supply occur in a market. What happens to the equilibrium price and quantity? The equilibrium price decreases; the change in the equilibrium quantity is ambiguous. The equilibrium price decreases; the equilibrium quantity increases. The equilibrium price increases; the change in the equilibrium quantity is ambiguous. The equilibrium price increases; the equilibrium quantity decreases.

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1. A reason why there is more competition in the restaurant industry than in the music streaming industry is that restaurants

A.unlike music streaming? companies, have to abide by government sanitation rules.

B.have to cater to a variety of consumer tastes while music streaming companies do not.

C.have more elastic demand for their product compared to music streaming companies.

D.unlike music streaming? companies, do not have significant economies of scale.

2. Why would a government use a patent to block entry to some markets if this hinders competition especially when governments generally promote? competition?

A.Patents are justified because they are an important means for creating network externalities.

B.Patents encourage firms to spend money on research necessary to create new products.

C.Politicians sometimes succumb to pressure from lobbyists to grant favors to businesses for political reasons.

D.Patents are an important source of government revenue.

3.Suppose we can divide all the goods produced by an economy into two? types: consumption goods and capital goods. Capital? goods, such as? machinery, equipment, and? computers, are goods used to produce other goods.

Suppose a technological advance occurs that affects the production of consumption goods but not capital goods.

If a technological advance occurs that affects the production of consumption goods but not capital?goods, then the production possibilities frontier will

A.remain unchanged.

B.shift outward along the consumption goods axis.

C. shift outward along the capital goods axis.

D. shift outward along both axes.

The new production possibilities frontier will indicate that with the technological? advance, more (CAPITAL GOODS /// CONSUMPTION GOODS /// OF BOTH GOODS) can be produced.

4. Market failure is best described as

A.All of the above.

B.when consumption occurs at low social benefit.

C.when the market fails to produce the efficient level of output.

D.when the market fails to produce deadweight loss.

E.when production occurs at high social cost.

The market will fail when which of the following? happen????(Check all that? apply.)

A.When property rights are incomplete.

B.When there is a market surplus.

C.When there is scarcity.

D.When it is difficult to enforce property rights.

E.When there is a market shortage

5.In which of the following market structures is price discrimination? possible?

??????a. perfect competition

??????b. monopoly

??????c. oligopoly

??????d. monopolistic competition

A.?b, c, and d only

B.?a, b,? c, and d

C.c and d only

D.b and c only

6. How do market economies ultimately determine what goods and services are? produced, how the goods and services will be? produced, and who will receive the goods and? services?

A.The government determines what goods and services are? produced, how to produce? them, and who will receive them.

B.Firms determine what goods and services are produced and how to produce? them, and markets determine who will receive them.

C.Consumers determine what goods and services are? produced, firms determine how to produce? them, and equity determines who will receive them.

D.Consumers determine what goods and services are? produced, firms determine how to produce? them, and markets determine who will receive them.

E.Firms determine what goods and services are? produced,technology determines how to produce? them, and consumers determine who will receive them.

7. For monopolistically competitive firms is it always likely in the? long-run to have? zero-economic profit?

Monopolistically competitive firms in the? long-run

A.may continue to earn profit by convincing consumers their products are differentconvincing consumers their products are different.

B.will not continue to earn profit because the cost of production will rise as new firms enter the market.

C.will not continue to earn profit because monopolistically competitive firms produce identical products.

D.will continue to earn profit due to barriers to new firms entering the market.

E.may continue to earn profit by instead beginning to produce a product identical to competitors.

8. In monopolistically competitive? markets, what is a factor under a? firm's control that determines whether it will be? successful?

A. Upper A firm's ability to differentiate its productA firm's ability to differentiate its product.

B.Consumer preferences.

C.Factors that affect all firms in a market.

D.Chance events.

E.Both a and b.

9. From the list? below, select the necessary condition in order to achieve successsful price discrimination.

A. The seller must possess market power.

B. Buyers must have identical inelastic demands.

C. Transactions costs must be zero.

D.The buyer must possess market power.??

10.Suppose Dell is currently selling 3,000,000 computers per year. However, managers at Dell are considering whether to increase production by 300,000 computers. One manager explains that after increasing production by this? amount, total profit would be? $100 million. Given this? information, should Dell increase production by 300,000 computers??

A.?Yes, because Dell would earn a profit.

B.Information about the additional cost incurred from producing 300,000additional computers is required to answer this question.

C.?No, because increasing production by 300,000 computers would decrease the price of computers.

D.Information about the additional revenue earned and the additional cost incurred from producing 300,000 additional computers is required to answer this question.

E. Information about the total revenue earned and the total cost incurred from producing 3,300,000 computers is required to answer this question.

11. The Majestic box office sells tickets for the same play at different? prices: a lower price to those who opt for the seats at the back of the theatre and a higher price for those who purchase seats in the? front, around the stage. Which of the following statements is? true?

A. This is an example of product differentiation not price discrimination.

B. The theatre practices first degree price discrimination by setting prices based on willingness to pay.

C. Charging two different prices is an effective way to avoid an excess demand for play? tickets; the higher price lowers quantity demanded to some extent.

D. Since the cost of producing the play does not change with the seating? configuration, this is evidence of price discrimination based on market segmentation.

ECC1000 Lecture Notes - Lecture 7: Traffic Congestion, Marginal Utility, Passive Smoking

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